The Reluctant Entrepreneur: Credit

FIrst appeared in Business Goa

Recently I went to a store where I go regularly to get consumables. This time I need some items which were more capital in nature. I asked the owner if he would accept my cheque. He said he does not accept cheques but I could go to the ATM next door and withdraw cash.. Since it was upward of 20K I was reluctant and two, I am ATM challenged. So I did the next best thing, I drove to another store, a few kilometers away, he accepted my cheque and concluded the business.

Is this not a dilemma entrepreneurs face day in and day out. Are there any easy answers? Is it dependent on an ability to take risk especially when the supplier has no way of checking credit worthiness of the customer quickly. In the above case on can say the the first supplier lost business, on the other hand what if the first supplier has burnt his hands giving credit. That would explain his reluctance to give credit or accept a cheque, he may have decided it is better not to give credit and lose the business (read profit) rather than give credit and lose money (read cost and profit).

Bad creditors add another dimension, ie heart burn. One has to keep calling them up, a non value adding activity. Relationships usually sour if the time taken to recover is more than what was committed. Very often we see a sign announcing credit is given to only those above 80 yrs accompanied by both parents. Does this mean “Credit” is a bad word?

First we have to accept CREDIT is part of the business system. How we handle, how much credit to give and for how long is dependent on experience and policy and can vary. There is a myth that supplier credit is the cheapest as there is usually no cost. Believing this myth everyone tries to maximise it by delaying payments which is not the best way to do business or build trust. Ask any defaulter, they will have a hard time getting suppliers to give them material, and if they do it will be at a higher price.

There is a big cost but unseen. Customers who misuse the credit system are most likely to get effected in times of shortages with the supplier preferring better paying customer. Suppliers factor the delayed payment and adjust prices accordingly. A customer who delays payment usually scarfices his ability to negotiate. More importantly the customer should expect his consignments to be delayed. In short supplier credit is not cheap.

We have seen suppliers support us during the times we had cash flow issues because in good times we ensured payments were made in time. Once the cashflows eased we would bring the payment schedule back on track. It actually works both ways. We believe in doing anything for our customers, and customers must do one thing for us, PAY IN TIME. This must be applied to the supply chain, there the company is a customer and supplier is looking for ontime payment.

The best way to do business in in cash. At the end of the day when you close your sales book there is no outstanding. The second best way is to give credit. Be clear of the payment terms you are offering. We used to give our dealers a credit limit based on monthly sales, what we forgot to add was “Rs30,000/- or 30 days which ever is earlier”. A few dealers when asked for payment would say but we have not crossed the limit even if the payment was outstanding more than 30 days. BE CLEAR

Customers agree to pay on a certain date. If there is a default, then next time the credit facility is withdrawn with the clear remark that earlier promise was not honoured. A PDC is another way to go. This is because the laws are now more in favour of the depositor in case of dishounour.

The chinese method which also acts as an instant credit check with an unknown customer is by offering a discount say 2% for cash payment in lieu of 30 days credit. This translates to an interest cost of 24%. If the the customer cannot go out and borrow @ less than 24% p.a (today interest rates vary from 12 to 18%) from those who know him, it means you were better off not giving him credit.

An entrepreneur must know that the decision to give or not to extend credit should not be made at the spur of the moment, it must be well thought out and must become “policy” for that Company. This ensures that employees know exactly how things work and what has to be done. Do not change the policy based on the size of the order. The owner who refused to accept my cheque had a policy in place and more importantly respected it, irrespective of who and how much.